Traditional Investment Advice is Outdated—Why the 60/40 Portfolio is Dead

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In the 1950s, economist Harry Markowitz developed the Modern Portfolio Theory, proposing the 60/40 portfolio as a balance between stocks and bonds. Millions of investors have used it as a default asset allocation ever since.

Fast-forward to the 1990s, when financial planner Bill Bengen set out to discover the “safe withdrawal rate” for retirees—what percent of your nest egg you can pull out to live on in retirement. He assumed the average person needed their nest egg to last at least 30 years, so he looked at every 30-year period since 1926 to see which one performed worse. The worst 30-year period for a person to be retired started in 1966 if you were curious. 

He then calculated the most that someone could have withdrawn in the first year of their retirement without draining their nest egg in under 30 years. He assumed they had half their money in the S&P 500 and half in medium-term government bonds. 

The answer: 4.15%. He rounded that to 4%, and that’s how the 4% rule was born. 

Can you handle one more conventional finance rule of thumb? The “Rule of 100” asserts that people should subtract their age from 100, and that’s the percentage of their portfolio that should be invested in stocks (the rest being in bonds). 

Got it? Great. 

Now, let’s throw all that out the window. 

The U-Shaped Asset Allocation

Paula Pant of Afford Anything had a great interview with Bill Bengen recently, in which he himself argues that most people will do just fine with a 5% withdrawal rate. 

First, the 4% rule was designed for virtually zero risk. It’s based on the worst-case scenario in modern history. 

That aside, Bengen notes that you can just slim down your stock investments around the time you retire, hold conservative assets like bonds and cash for a few years to get over the hump of sequence of returns risk, and then put more money back in equities. 

It’s worth pausing for a quick explanation of the sequence of returns risk. It turns out that when downturns hit, it actually matters for retirees. You really, really don’t want a market crash in the first couple years of your retirement since you’ll end up selling off too much of your portfolio too early, and even when the market recovers, your portfolio doesn’t. 

So, you slash your stock exposure for the first few years of retirement, then bump it back up and enjoy a 5% withdrawal rate. If you need $40,000 in income from your nest egg in retirement, that’s the difference between a nest egg of $800,000 and $1 million. 

Study: 100% Equities Outperform 60/40 Portfolios

That’s all still pretty conventional advice. 

Emory finance professor Aizhan Anarkulova and her co-authors recently published a paper that found an asset allocation of 100% stocks outperformed both classic 60/40 portfolios and target date funds (TDFs). 

Now, we’re getting a little further off the beaten track. And we haven’t introduced real estate yet. 

Anarkulova and her co-authors used geographical diversity as a substitute for stock/bond diversity. They ran their numbers with portfolios of 33% U.S. stocks and 67% international stocks (what the authors refer to as the “optimal portfolio”). 

It probably comes as no surprise that portfolios entirely made up of stocks have outperformed 60/40 stock-bond portfolios on average. Stocks have a much, much higher historical return than bonds, after all. Anarkulova’s “optimal portfolio” produced 50% more wealth for retirees than 60/40 portfolios and 39% more than TDFs. 

Where it gets interesting is that the “optimal portfolio” actually proved safer than 60/40 portfolios and TDFs. They ran out of money less than half as often, according to the study.  

My Asset Allocation

I aim to have around 50% of my investments in stocks and the other 50% in real estate. I don’t invest in bonds. More on that momentarily. 

When I say “real estate,” I mean a wide range of passive real estate investments. These include debt investments (such as private notes and debt funds) and equity investments (such as private partnerships, real estate syndications, and equity funds). 

No landlord headaches, renovations, financing, city inspectors, tenants, property managers, or contractors. This is how billionaires invest in real estate and beat the market. 

I know what you’re thinking: Most of those investments require a minimum investment of $50,000 or more! Sure—if you invest by yourself. I invest $5,000 at a time, going in on these investments with other members of my Co-Investing Club. 

Investing relatively small amounts lets me diversify across many cities and states, many asset classes, and many operators. Today, I own a fractional interest in around 3,000 units spread all over the U.S.

It also lets me diversify across time commitments. Our Co-Investing Club has made investments with short-term turnarounds of nine to 12 months, medium-term turnarounds of one to three years, and longer-term investments of four years or longer. That helps spread out the repayments over time, which makes it easier to do “lazy 1031 exchanges” to slash my tax bill. 

Why I Invest in Real Estate Instead of Bonds

Let’s start with the obvious: Bonds deliver pretty shoddy long-term returns. That extends to corporate bonds, too, not just government bonds. No, really—the S&P 500 Bond Index has averaged a 2.36% annual return over the last decade. 

That’s less than the current CPI inflation rate of 2.9%. To calculate the real return on a bond, you have to subtract out inflation. It’s one of many reasons I invest in real estate instead of bonds. 

In our Co-Investing Club, we typically aim for annual returns in the mid-teens or higher. And no, high returns don’t inherently mean high risk. Investments come with more dimensions than just risk and returns: Liquidity, time commitment, minimum investment, tax advantages, and other dimensions all play a role. These other dimensions make it possible to find investments offering high potential returns and low potential risk. 

And in fact, we focus primarily on risk when vetting investments together as an investment club. Here are a few risks we take most seriously. 

I also look at recession risk. Unlike most stocks, some real estate investments protect against recessions quite well. 

An 8% Withdrawal Rate?

Imagine you earned an average yield of 8% on your real estate investments and took a withdrawal rate of 5% on your stock investments in retirement. If you had a 50/50 stocks and real estate portfolio like me, that would average 6.5%—and wouldn’t even require selling off any real estate holdings. 

At a 6.5% “withdrawal rate,” you’d only need around $615,000 to retire for that $40,000 in investment income. That’s instead of $1 million at a 4% withdrawal rate. 

The exact numbers aren’t the point, though. The point is that you should question conventional financial wisdom, and real estate can help you reach your financial goals much faster than a standard 60/40 portfolio of paper assets.